Sustainability Disclosure Requirements (SDR) will impact every FS firm
The long-awaited SDR (Sustainability Disclosure Requirements and Labelling Regime) has been published by the FCA. The UK regulator has kept its promise of not ruining our Christmas with a late publication, but at 212 pages, it makes for a hefty read. However, don’t worry - we’ve got you covered - here is a high-level summary of the key elements of the new regime:
Anti-greenwashing rule
Consumers have shown an appetite for green financial products, yet the market for them remains confusing at best (what is truly “green”?), with the FCA expressing concerns that some firms are exaggerating their credentials. That’s why they have introduced a new anti-greenwashing rule applicable to all FCA-authorised firms which takes effect from the 31 May 2024. Linked to Consumer Duty obligations, firms must ensure that their communications about financial products or services which refer to their sustainability characteristics must be fair, clear, and not misleading. This covers a broad spectrum of communications, from product naming to imagery. In the following weeks we will publish a deep dive on the Guidance on greenwashing rules, but if your concerns can’t wait, we know the regulator’s areas of focus and expectations of green products, so don’t hesitate to contact us if you want to discuss.
Labelling regime
The rest of the SDR requirements are more targeted at fund managers, due to the huge spike in consumer demand for greener investment products. In their latest Financial Lives Survey, the FCA found over 80% of adults who participated wanted their investments to do some good as well as provide financial returns. However, these same retail investors find it difficult to find products that match their investment preferences due to vague product names (e.g., ESG) or opaque investment strategies. To tackle this lack of clarity and growing greenwashing concerns, the FCA has developed general and specific requirements for firms to be able to apply a label to their funds.
General criteria
There are some overarching conditions which fund managers need to stay-ahead of if they want to use these labels:
All funds with a label must have an explicit sustainability objective which aligns with one of the four defined labels and is clear, specific, and measurable.
At least 70% of assets in the fund must be invested towards meeting the sustainability objective.
A robust evidence-based standard needs to be applied in a systematic way to meet the sustainable investment objective. The FCA mandates for an independent review of this standard to ensure that it is appropriate to select assets for any labelled fund.
KPIs must be selected and reported on to ensure progress towards meeting the sustainability objective of the fund.
Managers must design and develop stewardship strategies and escalation plans which contribute to the sustainability objective.
The labels
The FCA are introducing four sustainability labels, intended to cover products which invest in range of assets either already sustainable or on their sustainability journey. The labels are:
Sustainability Impact: assets within this category must directly contribute to obtaining a pre-determined positive environmental or social outcome, either via the companies themselves (e.g., clean energy firms) or via the investment activity (e.g., through capital allocation to firms who provide solutions for environmental crises).
Sustainability Focus: assets in this category already have environmentally or socially sustainable credentials or characteristics.
Sustainability Improver: assets under this label may not currently be considered sustainable but are on a trajectory to improve their green or social credentials with a determined timeline for action.
Sustainability Mixed Goals: a new label, it includes funds which have a blend of assets from across the previous three categories. It may be more appropriate for the characteristics of multi-asset funds or funds of funds.
These labels are not hierarchical and are mutually exclusive, so a fund may only possess a single label.
Name and marketing rules
Choosing to have a label or not is voluntary. However, if your firm decides not to comply with the labelling requirements for its ESG or sustainable funds, you will not be able to use the terms “sustainable”, “sustainability” or “impact” on any of your products. And, even if you use other sustainability-related terms (such as ‘green’, ‘ESG’, or ‘responsible’) in your fund names or financial promotions, additional product-level disclosures will be required, and you will need to disclose why you have not applied a label. This requirement kicks in from 2 December 2024 so firm’s will need to review all marketing material on their funds to ensure they don’t fall foul of the new rule.
Product level disclosures
Managers will be required to produce three types of disclosures for funds which either use the labels or have sustainability-related terminology in their fund names / marketing materials:
An easily digestible consumer-facing disclosure with a maximum of two A4-pages to be made available on the firm website, highlighting the key sustainability characteristics of the fund.
Pre-contractual disclosures to be added to the fund’s prospectus, providing more granular detail on the sustainability features of the fund than those provided in the consumer-facing disclosure.
Ongoing product-level disclosures in the form of annual reporting against set KPIs, engagement activities, escalations or any other relevant information, which evidence contribution towards the sustainability objective of the fund.
Consumer-facing and pre-contractual disclosures will need to be published as soon as a fund starts using a label (at any point after 31 July 2024). Ongoing disclosures will be required annually thereafter.
Entity-level disclosures
Managers will be required to produce a ‘sustainability entity report’ on an annual basis. This report is largely consistent with the structure of existing TCFD reporting covering governance, strategy, risk management, and metrics and targets, but has a broader focus beyond just climate. This reporting obligation kicks in from 2 December 2025 for larger asset managers (>£50bn aum) and 2 December 2026 for smaller asset managers (>£5bn aum).
From the initial mapping of products; to review of all marketing materials; to the independent assessment of your ‘evidence-based’ standard, there is a lot to do in the coming months which is going to impact EVERY regulated firm. We would love to help lighten the load of SDR, as you navigate through the latest developments.
Get in touch! contact@avyse.co.uk
